No Imminent Rate Hike Next Year?

Disclaimer: The following text is a research document made for purely educational purposes, is not and should not be used as an (personalized) investment advice.

——————

There were a lot of talks recently on whether the FED would start rising the interest rates next year. One graph and some geo-political and macro considerations compelled us to add our two cents on the topic.

I. The technical argument

IEF is an ETF that tracks the performance of U.S. treasuries that have a remaining maturity of at least seven years and less than 10 years. When the price of treasuries goes up, the yield goes down. The main presumption in our “two cents” is that if the market participants expect that the FED would start rising interest rates soon, the yield on treasuries should go up, hence the price of IEF should go lower.

IEF Monthly Chart

This monthly chart of IEF shows that despite some expectations about rising rates rather sooner than later, the upside trend in treasuries could have some more time to go before starting to go south. The MACD is positive with no bearish divergences, the Stochastic is still not entirely in the overbought state. Basically no serious warning signs.

The monthly chart of TLT (an ETF that tracks the performance of 30y U.S. Treasuries) presents almost the same picture.

The big increase in the net short positions of the money managers on the price of Treasuries also implies (as a contrarian signal) that the rise of their price might have some more time to go up.

Such a prolonged increase of treasuries prices, respectively a decline of the yield, also implies the FED might take some more than expected time before starting to rise interest rates.

II. Some fundamental arguments

The decline of the oil prices could also be expected to ease the pressure on the FED to increase the rates rather sooner than later. Given the expectations that the oil price would stay around $40-$70 levels for a prolonged time prove to be true, this could have its deflating impact on the price levels around the world. Generally, this would be good for people as they would have to pay less for the goods and services they consume but could provide some problems for the businesses that have not used to work in an environment of not growing or slightly declining prices (basically businesses where the role of innovation was replaced by the easy access to fresh money). Investments relying solely on inflation to grow could also suffer.

Modern central bankers however seem to view deflation as a far more scary phenomenon for the health of economy than the one described above. Hence, they would be reluctant to increase the rates with such a treat along the way. A possible problem with this type of policy could occur if the central banks run out of weapons to provide inflation.

If we stretch our imagination even further, we could include the danger of China slowing further its growth or Russia becoming some sort of insolvent because of the international pressure on its economy (and practically leaving the payment systems even for a short period of time) to the factors that could:

1) increase the deflationary environment in the world

OR

2) make the need of lower interest rates stay for a longer period of time.

What is your opinion?

Those are our two cents to connecting the dots in the current macro economic picture. How would you react in such an environment? Would you buy/sell stocks/commodities/treasuries? Any comments would be appreciated.